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Chapter 6: Diversification

Transcript

00:25:53 TONYA: Alright, so next we’re moving into diversification. We’ve hinted it at this, but let’s really dig: At the basic level what is diversification?

00:26:05 DAN: It’s not putting all of your eggs in one basket. I mean that’s as simple as it gets, right? If you have all of your money in an investment, and that investment doesn’t do well, you don’t do well. The market, kind of like using a yo-yo while walking up stairs, individual companies will do well, individual companies will do poorly, but the whole market will do better. And so, it may make sense for us to have a little bit of that whole thing.

00:26:36 EARL: Yeah. And Dan says just perfectly, “It’s not putting all of your eggs in one basket.” As a result, you’re not putting all of your money into one stock. Diversification suggests that you have multiple stocks, multiple types of stocks, or multiple, different things. So the idea is not to put all of your eggs in one basket because you know what your mama said, right? The basket could what? Tip over and break. Then all your eggs are broken. Right?

So what you want to do, the whole idea with the strategy is to put yourself in a situation where if that basket tips over, maybe it only breaks one egg, right? This stock goes down, these others stay where they are or go up. You don’t lose everything. You are diversified.

00:27:29 DAN: I think there’s actually two levels to this. So we started talking about not putting all your eggs in one basket of: don’t own one just one stock. Own multiple different stocks. And that’s maybe to your analogy of owning four different types of cars.

00:27:40 TONYA: Yeah.

00:27:41 DAN: There’s a little bit of difference. But there’s also if you want diversification maybe between different assets.

00:27:46 TONYA: Absolutely, Dan. Yes.

00:27:47 DAN: So you don’t want just stocks. Maybe you also want bonds. So, it’s not just different stocks, it’s also different types of assets.

00:27:55 EARL: Yeah.

00:27:56 TONYA: Absolutely. And diversity is important. Diversity in your investment portfolio, it can actually protect you from some of the risks that you’re concerned with.

00:28:02 EARL: Big time. That’s what it’s designed to do.

00:28:04 DAN: And I think the obvious question becomes: how do we get it?

00:28:08 TONYA: Yeah.

00:28:09 DAN: It sounds so good. We’re like, “Cool.”

00:28:11 TONYA: Yeah, I want more!

00:28:12 DAN: “We want diversification!” Now what? So I think it makes sense for us to talk a little about what’s called “mutual funds” or ETFs, right? An individual stock, not all of them, but they can cost a thousand dollars. If I have five hundred dollars to invest, how am I gonna get diversification? Right? I might only have one company, or I might only have a couple of them, but I won’t have a lot.

00:28:35 TONYA: So we don’t want to put all those eggs in one basket. We want to diversify our portfolios. Let’s have a look at what we’ve learned.

00:28:41

(Music / Chapter 7 Ends with Key Takeaways slide)

What is diversification?

Diversification is a strategy where you spread the money you’re investing across different types of investments. Think of it as not putting all your eggs in one basket.

Is there an easy way to diversify?

There are a couple of fund types that can help to diversity your portfolio.

Mutual fund – Your money is pooled with other investors with a similar goal so you have greater buying power than you would on your own.

Exchange-traded funds (ETFs) – These are similar to mutual funds where they represent diverse investments, but ETFs are bought and sold throughout the day. They may be less expensive since they are not actively managed like a mutual fund, but brokerage commissions may occur when you buy or sell.

Are other fund types available?

Bond funds invest in different types of bonds (government, municipal, and corporate) and the risk may vary based on the goal of the fund.

Stock funds invest primarily in stock companies, again, the risk may vary based on the goal of the stock fund.